Due on Sale / Transfer Provisions

Many among us owe money to a lender, secured by real estate. Think about buying a home and obtaining a mortgage or getting a HELOC (home equity line of credit). The property represents collateral, which the lender can acquire by foreclosure to repay the loan.

The lender has certain rights. These rights are set out in: (a) the promissory note, which is the document that contains the promise to repay the borrowed amount, with interest; and (b) the deed of trust or mortgage, the document which deals with the lender’s foreclosure rights.

Deed of trust v. mortgage? The instruments have different structures, and the deed of trust gives the lender a speedier foreclosure process. For our purposes here, mortgage means deed of trust.

A typical deed of trust includes several pages of boilerplate language. In the middle of the document, lenders place a due on sale or transfer clause. Meaning? Borrower defaults with a sale or transfer, even if payments get made every month.

Due on sale / transfer provisions have existed for decades. Lenders include them to protect against an increase in interest rates. Rates have been low for a long time, but if they increase significantly, lenders lose money—or, at least, profit opportunities—with a large portfolio of low rate fixed loans.

Purposes aside, due on sale / transfer clauses mean what they say. A transfer, whether it involves money or not, changes the property ownership. It leaves the owner at risk, should the lender find out about the transfer.

How do transfers occur, absent an actual sale of the property? Estate planning. You own a home. You show up at your lawyer’s office. (I hope it’s Rubin & Bernstein, but these rules apply everywhere.) The lawyer creates a trust and, wisely, makes sure it gets funded. Bank and brokerage accounts get retitled. The clients sign a document which assigns all personal property. And they deed the home into the trust. And … oops!

So why am I writing about this issue today? Recently, I spoke with a lawyer who handles foreclosures for big banks and residential lenders. He told me he gets a few cases every month, in which for no particular reason a lender forecloses because of an innocuous transfer. Yikes, I thought. (Yes, yikes, which means “expressing shock or alarm.”)

What to do? First, you can seek consent from the lender. Lender have modified deeds of trust, always in the context of lot line disputes, where we have adjusted lot lines to resolve the fight over who owns what. In these cases, we need to match the property legal descriptions with the deed of trust descriptions. Lenders cooperate, but the bureaucracy makes the process challenging.

The experience tortures everyone, but we get it done. And for estate planning I suspect success occurs in most cases.

Second, you can chance it. The risk is low, and if you’re creditworthy and rates have not increased significantly, a refinancing solves the problem.

Finally, you can handle transfers of mortgaged property, at death, with a beneficiary deed. No putting the property in your trust and, maybe, no trust because, often, holding real estate represents the driver for establishing a trust.